Wednesday, October 1, 2014

Envy and excess

Why does it matter at all to a vegetable picker in Fresno, or an unemployed teenager on the south side of Chicago, whether 10 or 100 hedge fund managers in Greenwich have private jets? How do they even know how many hedge fund managers fly private? They have hard lives, and a lot of problems. But just what problem does top 1% inequality really represent to them?

I emphasized the quantity issue here. His grandfather in the 1930s watched movies and saw glamorous lifestyles way beyond what he could achieve. Increasing inequality is about larger numbers who live a lavish lifestyle. And the claim is that increasing inequality is changing behavior.

There is a view motivating the left that inequality is just unjust so we - the federal government is always "we" -- have to stop it. If they'd say that, fine, we could have productive discussion.

But they say, and I was going after in the post, all sorts of other things. That inequality will cause poor people to spend too much, that it will cause them to rise in political rebellion, for example. For that to happen, for the presence of the rich to affect their behavior in any way, they have to know about how the exploding 1/10 of 1% live, and how many of them there are. Which just doesn't make any sense.

Paul Krugman had a few revealing columns over the weekend. (No, not the endlessly repeated Say's Law calumny. I trust you all understand how empty that is.)In "Our invisible Rich,"

In fact, most Americans have no idea just how unequal our society has become.

The latest piece of evidence to that effect is a survey asking people in various countries how much they thought top executives of major companies make relative to unskilled workers. In the United States the median respondent believed that chief executives make about 30 times as much as their employees, which was roughly true in the 1960s — but since then the gap has soared, so that today chief executives earn something like 300 times as much as ordinary workers....

So how can people be unaware of this development, or at least unaware of its scale? The main answer, I’d suggest, is that the truly rich are so removed from ordinary people’s lives that we never see what they have. We may notice, and feel aggrieved about, college kids driving luxury cars; but we don’t see private equity managers commuting by helicopter to their immense mansions in the Hamptons. The commanding heights of our economy are invisible because they’re lost in the clouds.

Finally, here is something I can agree with him about. The rich are invisible. The average person has no idea really about the difference between taking a limo or a helicopter to the Hamptons, irksome as that may be to Paul. And less idea of whether there are 10 such people, implying no change in the distribution of income, or 1000, a big increase in the upper tail.

But this seems to play exactly to my point. If most Americans have no idea how the superwealthy live, or how many superwealthy there are, just how can their existence influence the behavior of people who don't know they are even there?

If a tree falls in the woods and nobody hears, did the tree fall? If a hedge fund manager has a $2,000 bottle of wine in his Hampton estate, how do you reach for that better beer you can't afford?

Again (before comments fill up with "heartless shill of the rich" nonsense) Inequality as a symptom of problems I'm all on board with -- cronyism, connections getting you access to education, to favorable treatment by Federal Regulatory agencies, and so on are problems. That we need to fix rotten education and other problems of the poor I'm on board with. But the claim is that inequality by itself, even if fairly gained, causes changes in behavior among people who don't even know it's there.

..for many of the rich flaunting is what it’s all about. Living in a 30,000 square foot house isn’t much nicer than living in a 5,000 square foot house;...So it’s largely about display — which Thorstein Veblen could, of course, have told you.

... If you feel that it’s bad for society to have people flaunting their relative wealth, you have in effect accepted the view that great wealth imposes negative externalities on the rest of the population — which is an argument for progressive taxation that goes beyond the maximization of revenue.

This is all quite revealing. But if the average American doesn't know how the super-rich live -- first column -- it is simply impossible to have "negative externalities" of wealth per se --not, I need to keep reminding you, as a symptom of something else. So the second column flatly contradicts the first.

And, if the "average American" has no idea how the rich live -- first column -- they are surely not "flaunting" or "displaying" their wealth to the average American -- second column. Again, that's a flat out contradiction.

As I surveyed in the inequality post, the other big economic "problem" resulting from inequality is that the rich don't consume enough, so we have secular stagnation. Well, are the rich consuming too much or too little? Let's make up our minds here.

But 2+2 do make 4. "We," you and I, may not "see private equity managers commuting by helicopter to their immense mansions," but Paul sure sees it and knows about it. The super-wealthly aren't causing any "negative externalities" to you and me, and the less fortunate who surround us. But they sure are bugging Paul.

So what I see expressed crystal clear here is an age-old sentiment. The established liberal establishment aristocracy bemoans the garish tastes of the nouveau-riche. Plus ca change.

Except now it's not just, "let's not let them in the country club deah." It's "an argument for progressive taxation that goes beyond the maximization of revenue. " Read that again. It means take it, not to fund programs but simply to lop off their heads because Paul doesn't like their fancy haircuts.

As for Veblen and the theory of conspicuous consumption, if you haven't read H.L. Mencken's review, stop everything and do so now. (Google found me this one, there may be better) It ends,

But why don’t we keep flocks?
Why do we renounce cows and hire Jugo-Slavs? Because “to the average popular
apprehension a herd of cattle so pointedly suggests thrift and usefulness that
their presence . . . would be intolerably cheap”. Plowing through a bad book
from end to end, I could find nothing sillier than this. Here, indeed, the whole
“theory of conspicuous waste” was exposed for precisely what it was: one per cent. platitude and ninety-nine per cent. nonsense. Had the genial professor,
pondering his great problems, ever taken a walk in the country? And had he, in
the course of that walk, ever crossed a pasture inhabited by a cow (Bos taurus)?
And had he, making that crossing, ever passed astern of the cow herself? And
had he, thus passing astern, ever stepped carelessly, and —

36 comments:

It's "an argument for progressive taxation that goes beyond the maximization of revenue. " Read that again. It means take it, not to fund programs but simply to lop off their heads because Paul doesn't like their fancy haircuts.

It's to change the incentive structure at the top. Executives and activist investors have more power than most to divert the income of a firm towards themselves versus raising overall pay in the firm, but very high marginal income tax rates make that significantly more difficult - they can try to get around with tax loopholes, but look at the 1955 Fortune article that Krugman cited about executives in 1955. Evasion is not perfect, and so most firms just paid their executives much less than they did in the 1930s or now.

That's one of the two reasons I care about inequality (the other being that I think it's corrosive to actually holding rich people and politicians accountable in criminal and civil courts - see how thoroughly some of the Gilded Age tycoons captured the court, police, and legislatures of the states they lived in). I don't particularly care if the rich then spend what money they do get on private helicopters, or pointless car acquisitions, or underperforming hedge fund investments.

I think the argument is following (not that I fully share it): inequality is not by itself a problem. The problem is more and more things belonging to fewer and fewer. Some think opportunities created by big money are so superior, that the rest of "us" can't compete.

The other angle is "us" getting poorer while "they" are getting reacher. I guess many equality advocates would be ok with scenarios when all strata are getting reacher but maybe at a different rate.

Tsk. Big mistake. If only they had built it somewhere further away or behind the moon or something, perhaps the Earthlings wouldn't have seen it and therefore would have been less inclined to don metal suits and mount assaults on the fortress of the wealthy.

----

Joking aside, I believe that most people cared less about and saw less of how the rich live until the media started beating this inequality horse.

I mean it's staggering how much is being written about it by people who NEVER talked about inequality 10 years ago and probably didn't even realize it had been growing since the 70s- journalists, professional Twitter-ers, celebrities, the entire population of Hollywood.

There are YouTube videos galore, endless articles in the newspapers, pretty much entire magazines dedicated to it (Mother Jones...)

People have been hammered with talk about inequality. Just constant discussions about what a horrific thing it is.

As a result both the rich themselves have gained visibility and the phenomenon itself has been redefined as a daunting, epochal problem that we are ALL suffering from.

I doubt Average Joe would feel nearly as suffocated by inequality if he wasn't constantly hammered by information about how he is being suffocated by inequality.

So I know the focus lately has been on wealth rather than income, but I don't see wealth as much an issue; why punish savers? Why punish risky investors? What I can't understand is the smaller albeit noticeable income gap. Has anyone actually assessed a given CEO's (or CTO, COO, etc, etc) value-added? There are modelling techniques to assess whether those stock options are justified. I'd like to see more data-driven rewards. A large error term not attributable to corporate leadership should be attributed to laborers.

I would say it differently. Whether people know how much the "others" have is irrelevant. What matters is that people feel like they have a stake in things, that they feel like the system is malleable and that they or their heirs can achieve. This mobility is what made America great and it is what is vanishing, if not outright vanished.

The problem is not that the ultra-rich have riches. It's the anti-capitalist and corrupt rigging that has generated those riches, recently, and the degree to which those corruptions are destroying our society, and capitalism itself.

You see, the rich are different from you and me: they have more influence.

A couple of reveals.

First -- Paul does not regard himself as rich, despite his generous academic salary, the compensation that the NYTimes pays him for his writing, and the royalties from a popular text book, and consulting and speaking fees, all of which, I am sure, must total a cool half million per year at a minimum. For aught that I know he may take down more than that. Of course there are top executives, ball players, movie stars, and hedge fundies, who make a lot more than Paul does. But, for at least 99% of us, Paul will pass for what we think of as rich.

Second -- Paul thinks he has no influence. He gets many column inches in one of the world's top newspapers to air it out every week. If he has no influence, what have I got. Let's face it. Most really rich guys -- maybe not the top five, but the run of the mine billionaires, have a lot fewer followers than Paul does.

Sorry Paul, you and I have nothing in common, save for our weight problems.

As Bryan Caplan has written - the country and the globe are rife with economic illiteracy of the kind that is distinctly in disagreement with what most economists agree to be true. I've always regarded it as a terrible shame that Paul is only increasing that illiteracy while trying to provoke some kind of mass hysteria against a perceived ruling elite.

I earn money. I do this at a job that is hard, was not my first choice, while others take fulfilling "callings" and send their kid to college with a 35K financial aid package while I pay full-freight plus (this at Princeton).I create a company that provides other jobs. I pay large marginal rates. I pay death taxes. I decide I want to leave what is left to my child so he can do his calling without imposing on others. Don't you think it is unfair to *me* to prevent this? Why do you feel you have a better claim to my savings than my child? Are *you* feeling lucky? Well are ya .. punk?

Presumably the economist’s answer to Prof Cochrane’s question is thus. A poor person derives more utility / pleasure from a dollar than a rich person. Ergo total utility / pleasure is increased to taking dollars from the rich and giving to the poor.

But obviously there are limits the gains from that policy: take it too far and the disincentive effects will at some point reduce total utility / pleasure enjoyed by the population.

Although you sort of forgot about the whole fact that people are more averse to losses than to gains. Therefore, taking a dollar from someone who's rich and giving it to someone who's poor doesn't necessarily make anyone better off. The loss of the dollar could cause more disutility than the utility from gaining that dollar.

"According to prospect theory, losses have more emotional impact than an equivalent amount of gains. For example, in a traditional way of thinking, the amount of utility gained from receiving $50 should be equal to a situation in which you gained $100 and then lost $50. In both situations, the end result is a net gain of $50.

However, despite the fact that you still end up with a $50 gain in either case, most people view a single gain of $50 more favorably than gaining $100 and then losing $50."

Not to mention: "Except now it's not just, let's not let them in the country club. It's an argument for progressive taxation that goes beyond the maximization of revenue. Read that again. It means take it, not to fund programs but simply to lop off their heads because Paul doesn't like their fancy haircuts."

I can imagine a millionaire wouldn't gain as much disutility from losing his money than many people who gain it. But if raising taxes literally brought on no revenue gains? All loss, no gain using your simple model.

Much of the argument against inequality seems based on an implied zero sum economy. If the rich have more, the average person must have less.

But the underlying reason for the argument is political -- bashing the rich has always been popular. If the average voter thought it were wonderful that executives make more and more, then politicians would quickly embrace inequality. It largely boils down to votes.

"Except now it's not just, let's not let them in the country club. It's an argument for progressive taxation that goes beyond the maximization of revenue. Read that again. It means take it, not to fund programs but simply to lop off their heads because Paul doesn't like their fancy haircuts."

Sounds like Paul is a big supporter of Pigouvian taxation - tax whatever you believe is detrimental to the common good whether that be carbon emissions, fancy haircuts, or whatever.

Which is funny, because I thought you favored the same type of treatment when it comes to short term debt? Are you recommending a Pigouvian tax on short term debt because it maximizes tax revenue? Do you have an underfunded program that requires a new tax?

"If you feel that it’s bad for society to have people flaunting their relative wealth, you have in effect accepted the view that great wealth imposes negative externalities on the rest of the population — which is an argument for progressive taxation that goes beyond the maximization of revenue."

Paul calls it progressive rather than Pigouvian taxation, but the motivations are the same.

"...they are surely not "flaunting" or "displaying" their wealth to the average American..."

Obviously, and Krugman isn't saying they are. He is saying the fellow who lives in the custom built the 30,000 sq ft mansion is flaunting it to his rival who only has a 25,000 sq ft mansion. Neither of them derive utility from the size or opulence of the mansion. They derive utility from the fact that they are the king of the hill. But only one of them can have the most opulent mansion, and their rivalry is a zero sum game. The externality is imposed on the rival - not the poor people. If one of the wealthy rivals had to live in a 5000 sq ft mansion, he would suffer no loss of utility as long as his rival lived in a 4500 sq ft mansion. The resources consumed in these lavish lifestyles are similar to the investments in running fiber optic cable through a mountain so your connection to a particular exchange is 5 milliseconds faster. It only works by knocking out the advantage enjoyed by the previous firm with the fast connection.

If inequality was such a political problem, why did the Occupy Movement fizzle out so quickly? Also, with respect to your analogy if the vast majority work less hard and can accomplish more with the advances of equipment and machinery wouldn't that understate the political portion of inequality? Also, we have a highly confiscatory tax systems due to inefficiencies in the government, I don't think the left realizes how much we already are taxed. Maybe it should be a column topic - Invisible Taxation

Finally finished reading yesterday's (extremely long) column (and then the above follow-up). I was glad to see that as the article went on it made the same kinds of points as I had made in my comment (government is the cause of most inequality, not the solution to it), which I had made after just reading the first few paragraphs of the essay.

Now think how much more good the essay would do -- how many more people would read it and get something out of it -- if it was simply (but profoundly) about that, instead of these good points being embedded (almost buried in) a longwinded, potentially offsensive (to some) essay about how inequality supposedly doesn't matter?

(Besides, it does matter: Example: All the human labor [of all kinds, including skilled] that goes into providing the lifestyles of the rich but non-famous could instead have been used used to make that farmer's life a bit better.)

Does not one response acknowledge that if inequality is the problem. .. or redistribution or more of the Great Society is the answer... what happens when The Rich spend 3 million on their daughters wedding or 5 million remodeling their mansion... do you think they get the goodies AND keep the money?.. People who "work" for a living get it... automatic redistribution. Doubt most of the posters even know what that means. Cut off or impede or tax this spending and you harm the very people you say you are trying to help.

"We study the extent to which people are misinformed about their relative position in the income distribution and the effects on preferences for redistribution of correcting faulty beliefs. We implement a tailor-made survey in Sweden and document that a vast majority of Swedes believe that they are poorer, relative to others, than they actually are. This is true across groups, but younger, poorer, less cognitively able and less educated individuals have perceptions that are further from reality. Using a second survey, we conduct an experiment by randomly informing a subsample about their true relative income position. Respondents who learn that they are richer than they thought demand less redistribution and increase their support for the Conservative party."

http://marginalrevolution.com/#sthash.3yhL7cWm.dpuf

I agree completely, it doesn't matter at all to someone on how much they make relative to others on a daily basis, unless they think they can get money from it. If they can't, (and have to pay) they change their mind.

What about concerns that the wealthy will exert a disproportionate influence over policy and design a system in their interest and against the interests of others?

Also, you misunderstood Krugman's point that progressive taxation is justified for reasons other than revenue maximization. He argues that rich people have a lower marginal utility per dollar than do poor people, particularly because if all rich people receive another dollar, then each will just spend one more dollar on a luxury arms race and will not be better off. On this basis he argues that, for utility maximization purposes, we should have progressive taxation.

All else equal, do you not want to transfer wealth from the rich to the poor? Rawls and many others argue that the wealthy don't "deserve" more utility than others. With that in mind, inequality itself is bad because a more equal society, with the same amount of aggregate wealth, would have more total utility. Of course, when redistributing, we must consider incentive effects.

Thanks again for pointing out, putting it blantly, that the idea of liberals is not to make society better (at least on this particular claim), it is just something else. Who knows what they are really after ? But the idea is not new, PK, as many liberals, are just repeating ideas from the past, ideas which, many decades ago, already had answers. I would suggest people read "The Anti-Capitalistic Mentality", by Mises. http://www.mises.org/document/1164/The-AntiCapitalistic-Mentality

A few years ago I have seen a report on French companies. From what I can remember, the report covers the period from '70s or '80s to mid-2000s (before the crisis). The report said that in that period real salaries rose several percent, while real returns on capital rose several times. Basically, all the increase in productivity went to the capital holders, and almost none to the workers.(I saw it one day on the news, and didn't immediately look it up. When I tried, I couldn't find it in English, and I don't know French.)Now, can we really say that the owners and top management are the only ones responsible for increase in the value of the companies? Or is it the combined effect of everyone, or even some outside influence, but those at the top have the system where they can take the most money?I like to divide the problem into two parts.Part one: large inequality is bad. Not because of some communistic tendencies, but because I believe (and I think we can find plenty of evidence in the news) that very rich try to influence the system so that they and their families keep their status, even if they do not deserve it purely on merit anymore. I consider it kind of monopoly - efficient for those at the top, but very inefficient for all others.Part two: do the rich deserve to have so much? Again, without any socialistic or communistic propaganda. When people say that rich deserve what they have, they generally consider that the money was fairly earned. But, can we assume that inherited wealth is "fairly earned"? Or money earned because of special starting position?Just consider Bill Gates: Microsoft was only possible because his father worked for IBM and Bill Gates was able to work with IBM engineers. It is almost impossible he would be where he is now if his starting position didn't include access to the best IBM engineers. So, is he fully responsible for his fortune? Or is his fortune consequence of his superb starting position and his ability to use it (so, part chance and part ability)?If you consider that being rich is mostly result of pure luck (being born into rich family) or combination of luck and ability (like Gates), it seems only fair to tax rich a bit more, and to use that money to lower taxes for less wealthy and to improve starting position of those not rich (cheaper food, education, health).And as for government efficiency, in some areas government can be efficient. The ratio of money given to the poor through the programs compared to the money needed for running those programs is better than for most charities. So, it's better to give to the poor through the government.Another thing: economical mobility, that is, the ability of the next generation to earn more or less than the previous one, is much higher in Scandinavia than in the US. That implies that giving everyone better starting position through a social safety net, free (or cheap) health and free (or cheap) education increases the ability of poor children to earn much more than "removing their hammock" and "forcing them to work".

Who is to decide who deserves what ? Taking your example, perhaps Gates was really lucky, but think about the milions of lucky people who didn't do anything useful with their luck. I think Gates deserves to be a billionaire, because when he looked around and saw possibilities, other people were just going to bars get drunk, or going home sink in a sofá and watch soap operas. In the process of becoming a billionaire, Gates also made the lives of virtually every single soul in the planet much better, and this is no rhetoric. Professor Cochrane is doing a great job by poiting out that the motivation of the anti-capitalistic / anti entrepreneurism mentality is definitely not a sincere desire to pursue of a better world, but just ugly envy of the rich. And the tax system in the US is already progressive, so, the rich are already paying more taxes than the poor.

I am not saying that Gates is completely product of chance. But, it's not 100% his talent. It is the combination of his talent and his extremely good starting position. Most people I've seen and heard talking how rich deserve to be rich because they have earned it completely ignore that they usually had better starting position.I am saying that improving starting position enables more people to grab their chance. That can be done by improving social security, health insurance and availability of education the way Scandinavian countries do. That can be achieved by progressively increased taxes.Rich people pay, on average, between 20% and 25% of their total yearly income in taxes. I think that people with total income over $1M pay slightly less, as a percentage, than middle class (can't find reference). In the '50s in US the top bracket was paying around 50% of their total income in taxes. Who said then that US was anti-capitalistic? I have not seen any serious discussion that those rates hurt the economy. So, there is no reason not to increase taxes for the top bracket (and taxes from capital gains, stocks,...), as long as that money is somewhat reasonably spent.

Just to state it again: my point was never that Gates doesn't deserve to be rich. My point is that even he needed structural advantage to get where he is, so it can't be said it was 100% purely his talent and ability. More and more rich people are hereditary rich, so 100% structural advantage, 0% ability. I am not talking about taking all wealth from those who earned it. I am talking about redistributing part of the structural advantage to those who are structurally disadvantaged. And important word is part. Rich would still be rich, just slightly less so.

Look at what is going on in France, with their 75% tax on the rich. I see where you are coming from, and I agree with almost everything. But then, the devil is on the details. How can we guarantee big government will "reasonalby" spend money? This is not rhetoric question. governance in a big country like the US, China, Brazil, India is a very difficult issue. Waste and private capture of government agencies is almost always the result. If wealth is a hereditary issue, we should be looking at ways to enrich the median family, and that is not necessarily more taxes. See, if you are a well paid Wall Street type, and makes 1 million a year, you don't pay only 20% -25% in taxes, you pay more. But if you are a multimillionaire, you probably pay less than 20%. And hey, 25% is a small number? I don't think so. The rich always can find a way to pay less taxes, they can pay lawyers and other professionals to solve that problem for them. If you raise taxes too much, you hurt the upper middle class, and if you don't prevent inflation, you hurt the lower middle class. What every society should be looking at is for ways o strengthen the finances of the median family, and that imply very low inflation (moderate deflation is even better) and moderate , flat progressivel taxation (simple, no loopholes).

>>But, it's not 100% his talent. It is the combination of his talent and his extremely good starting position.<<

But likely a million people had a better starting point. IBM, for example, had a better starting position. they had a much bigger advantage than Gates. But they failed to recongize it and failed to use it.

Thanks to a few abusers I am now moderating comments. I welcome thoughtful disagreement. I will block comments with insulting or abusive language. I'm also blocking totally inane comments. Try to make some sense. I am much more likely to allow critical comments if you have the honesty and courage to use your real name.

About Me and This Blog

This is a blog of news, views, and commentary, from a humorous free-market point of view. After one too many rants at the dinner table, my kids called me "the grumpy economist," and hence this blog and its title.
In real life I'm a Senior Fellow of the Hoover Institution at Stanford. I was formerly a professor at the University of Chicago Booth School of Business. I'm also an adjunct scholar of the Cato Institute. I'm not really grumpy by the way!